Home Office Deduction, Simplified vs Regular Method

If your side business runs from a corner of your home, you may be able to deduct part of what that space costs. The IRS offers two ways to figure the home office deduction: a simplified method with a flat rate, and a regular method based on actual expenses. Which is better depends on your space and your costs, and you can choose each year.

1. First, do you qualify?

Both methods use the same qualification rules. The IRS notes that the simplified option changes the calculation and recordkeeping, but not the criteria for who may claim the deduction.

The key requirement is that a portion of the home is used exclusively and on a regular basis for business. A desk in the corner of a guest room that is also used by guests generally does not meet the exclusive-use test. Publication 587 describes qualifying uses, including space used as your principal place of business, as a place where you meet or deal with clients or customers in the normal course of business, or a separate structure not attached to your home used in connection with your business. It also covers special rules, such as regular storage of inventory or product samples.

Employees generally cannot claim this deduction. The IRS notes that miscellaneous itemized deductions for employee business expenses were eliminated, so the deduction is mainly for self-employed people.

2. The simplified method

The IRS's simplified option is a standard deduction of $5 per square foot of the home used for business, up to a maximum of 300 square feet. That caps the deduction at $1,500.

Other features of the simplified method, per the IRS:

• No depreciation deduction for the home, and no later depreciation recapture for the years you use it.
• Home-related itemized deductions, like mortgage interest and real estate taxes, are claimed in full on Schedule A, not split.
• The deduction cannot exceed the gross income from the business use of the home minus business expenses, and any excess cannot be carried over.

3. The regular method

The regular method uses your actual expenses. You figure the percentage of your home used for business, then apply it to expenses such as rent or mortgage interest, real estate taxes, utilities, insurance, repairs, and depreciation if you own. Publication 587 explains that if you rent, you can deduct part of the rent by multiplying your rent payments by the business-use percentage. If you own, you cannot deduct the fair rental value of your home, but depreciation may apply.

Under the regular method, home-related itemized deductions are split between Schedule A and your business schedule, and amounts over the income limit may be carried over to a later year.

4. A worked comparison

Assume a renter uses a 150-square-foot room exclusively and regularly as an office in a 1,500-square-foot apartment. That is 10% of the home. Yearly costs are $18,000 in rent, $2,400 in utilities, and $300 in renters insurance.

Here the regular method produces a much larger deduction because rent is high relative to the space. In a home with low costs, or an office larger than 300 square feet in a low-cost area, the comparison can come out differently. The simplified method also saves recordkeeping time, which is worth something.

Both figures are subject to the gross income limit, so a side business with little income may not be able to use the full amount in a given year.

5. Switching between methods

According to the IRS, you may choose either method for any tax year. You choose by using that method on your timely filed, original return for the year, and once chosen, you cannot change to the other method for that same year. If you use the simplified method one year and the regular method later, depreciation for the later year must be calculated using the appropriate optional depreciation table.

6. A note on phones

Publication 587 points out that the basic local telephone service charge for the first landline into your home is a nondeductible personal expense. Business long-distance calls on that line, and a second line used exclusively for business, are deductible business expenses, but they are claimed separately, not as part of the home office deduction.

7. Key takeaways

• Both methods require part of the home to be used exclusively and regularly for business.
• The simplified method allows $5 per square foot up to 300 square feet, a maximum of $1,500.
• The regular method applies your business-use percentage to actual costs like rent, utilities, and insurance.
• In the example, a 10% office in a rented apartment yields $750 simplified versus $2,070 regular.
• You can choose the method each year on a timely filed original return, but not change it later for that year.